LURKING DANGER IN A SECULAR BEAR MARKET

The long-term history of U.S. stock prices shows there are periods, which
typically last 15-20 years, that can be classified as "secular" bull and
bear markets. [I don't know why secular, which normally means non-religious,
is used to mean long-term in this context. On the other hand, neither or
these types of animals has ever been known to practice any human religion.]

Secular bull markets, like the one in the 1982-99 period, see consistently
rising stock prices and pullbacks that are much less severe than in bear markets.
As important, those pullbacks or drawdowns are recovered in fairly short order.
In such a market, most investors want to have their maximum level of stock
ownership, and trying to identify when not to own stocks because the risks of
ownership are too high, is likely to cost more in the way of investment returns
than amount of drawdowns and risk avoided.

Secular bear markets, like the ones in the 1966-81 and current periods,
see stock prices move in an essentially a sideways channel with some substantial
declines along the way. Adjusted for inflation, the failure to make new high
values results in a loss of purchasing power. The declines in prices are significantly
greater than during bull markets, and take much longer, possibly many years,
to recover. As 2008 illustrated in a most disturbing way, those declines and long
recovery periods are the lurking danger
to retirement plan investing that can substantially alter or destroy one's retirement
timetable. In a secular bear market, it is well worthwhile to use tactical risk
reduction models to identify when the risks of stocks (or other asset classes such
as bonds) are high and the prudent action to protect one's retirement plan assets
is not to own stocks.

The graph shows the Dow Jones Industrial Average adjusted for inflation and
illustrates the long-term ("secular") market periods for over 100 years from the
beginning of 1897 through 2011.

The vertical scale of the graph is logarithmic. With an ordinary or linear scale,
it is difficult to see the variation when the prices are low. More importantly,
with a logarithmic scale, equal vertical distances correspond to equal percent
changes, so the relative fluctuations of the inflation adjusted Dow can be seen
regardless of the actual price at the time. The severity of the 1929-32 crash is
evident, and it shows that in comparison the scary "crash" on October 19, 1987,
which was the largest one day percentage drop, was a relatively mild pause during
a secular bull market.

It is informative to note that the peaks in the inflation adjusted Dow in 1929 and
1966 were not achieved again for about another 30 years. That is a dramatic
illustration of the danger of staying in stocks during a secular bear market.
(To be fair, it is important to note that the graph is based on the value of the
Dow Jones Industrial Average only, so it does not include the dividends received
by the owners of the component stocks, which were quite substantial at times.
Had those dividends been reinvested consistently, the recovery periods would have
been considerably shorter. Nonetheless, the dangers of owning stocks all the time
during a secular bear market are still quite real, and dividend yields recently
were at historical low levels and are still relatively low in historical terms,
much less than in the 1930s, 1960s, and 1970s.)